DOW JONES Industrial Trading : Bullish BAT and Bearish BAT

DOW JONES INDUSTRIAL AVERAGE 2000-2010 REVIEW

Although the 2000 bear market in the Dow Jones Industrial Average was severe, the index endured an even more devastating decline in its second bear market of the decade. The drop in 2008 was sudden in comparison to the price action earlier in the decade, which required most of three years to reach its ultimate low.

The volatility of the Industrials during the last two decades is remarkable. Starting with a substantial drop in 2000, the index rallied to new highs by mid-decade only to retrace the entire move and more. As the index enters another decade, the action of these two bear markets holds tremendous long-term significance. The action of the 2000 bear market established the parameters for the rest of the decade. After the decline of 2008, the long-term price history has established several critical technical and structural considerations. First, let’s review the conditions of the 2000 bear market that preceded 2008’s demise.

THE 2000 BEAR MARKET—THE TOP, THE DISTRIBUTION, AND THE EVENTUAL DECLINE

Throughout 2000 as the other indices were breaking down substantially, the Dow Jones Industrials were still consolidating after violating their multiyear uptrend. Although many have argued that the bull market of the 1990s began from the 1987 (some suggest the 1982 low was the real bottom) the bull market mania began in earnest with the breakout in 1995. For the next several years, the Dow Jones Industrial Average rallied sharply, as the index continued to attain year-over-year new highs. The interesting aspect of the longer-term price action during this five-year accelerated period between 1995 and 2000 was the fact that the index was able to hold at a critical Fibonacci retracement of each of the prior year’s rally. In essence, the weekly price action possessed a strong technical upside, as the index was able to make higher highs and higher lows for five years in a row. After the peak in early 2000, the index stalled and started to roll over on the weekly chart. The long-term trend line starting from the 1995 low was violated in mid-2000, and the index languished from that point forward. The five-year series of weekly bullish retracements was violated at this time, as well. Therefore, the price action was clearly beginning to signal a change at hand.

As I mentioned previously, the Dow Jones Industrial Average did not suffer the extent of the decline as did the NASDAQ Composite in the early stages of the bear market. In fact, the action in this index appeared weak, but it managed to hold in the 10,000 area for quite some time before declining sharply. On its own, the price action in the Industrials was not terribly negative until the latter half of the bear market. However, the steady distribution as evidenced by the weak sideways action in combination with the severe declines of the other two indices were the most critical factors that signaled lower prices.

DOW JONES INDUSTRIAL AVERAGE (^DJI): WEEKLY

BULLISH RETRACEMENTS 1994–2001

The weekly chart in Figure 1.10 shows the sequence of annual harmonic retracements. The structural pattern each year rallied to a new all-time high, retraced to a distinct Fibonacci retracement of the prior year, and continued higher.

FIGURE 1.10

As long as the index was able to maintain this uptrend, holding the prior year’s critical retracement, the long-term trend remained up. However, the series of retracements came to an end in 2000, as the index violated its critical 50% retracement.

DOW JONES INDUSTRIAL AVERAGE (^DJI): DAILY

BEARISH RETRACEMENTS

After an initial sharp decline from the early 2000 peak where the index sank to the low 9000 level, the Industrials consolidated in an ever-tightening series of bearish retracements for the rest of that year (see Figure 1.11).

FIGURE 1.11

In my June 2000 Dow Jones Industrial Market Report, I wrote:

“The action in the Dow Industrials continues to trade in a tighter range. Sooner rather than later it is going to break in a direction that will define the trend for the next few months. As the chart illustrates, the index has traded in a downward trending channel, where it has continually rallied to the 78.6% retracement of each prior sell-off.”

THE 9/11 CRASH, REBOUND, AND ANOTHER SELL SIGNAL

As terrible as the events of September 11, 2001, were, the crash in the Dow Jones Industrial Average as a result of that fateful day had been building for quite some time. The clear distribution from the year prior and the more severe action in the other indices were dominant factors that contributed to the severe bearish trend developing in the Industrials. Furthermore, the index lacked any clear patterns or distinct harmonic bullish setups on either the daily or the weekly chart to suggest that a low had been completed. Although the 9/11 crash was severe, the net result after the crash and corresponding bounce was actually a further reinforcement of the existing bearish channel. The 9/11 crash was a challenging technical situation due to the fact that it did appear to be the capitulation event, which most market pundits believed would mark the bear market low. Despite the bullish consensus, I did not share this view. In my Dow Jones Industrial Average March 2002 report, I wrote:

“For now, the index is trading above its current downtrend channel.… The whole scenario appears to be another monster bear trap. Also, the impulsive action off the September lows does not represent a “stable” and “maintainable” trend. In fact, the 1974 and 1987 collapses required years to recover their losses—which is a more favorable technical scenario than the current recovery. In addition, the existence of many bearish patterns that have yet to completely resolve their action suggests that the index needs time, if it is going to assert itself to new highs. For these reasons, I remain bearish on the index.”

As I stated in the March report, I believed that the index needed to retest the 9/11 crash low or at least retest a portion of this initial rally. The impulsive nature of the rally following the crash was not sustainable, as the index started to stall at the top range of the bear market channel. Although the technical action was clear, many “gurus” were calling for a new bull market. In my April 2002 market report, I reiterated my case for a continuation of the bear market:

“The Dow Industrials have chopped around quite a bit in the past month without much net result. The index has sold off recently, closely testing the 10,000 mark. The action has been lackluster, as most of the rallies are a one-day phenomenon, while the declines have slowly dragged. … There are many market analysts making claims of the beginning stages of the first bull market of the 21st century. I’ve heard overly bullish targets anywhere from 15,000 to a recent call by a well-known money manager for 30,000 in six years. I think these claims warrant caution. Technically, these price targets cannot be even considered until certain resistance levels are breached.… The ‘Line in the Sand’ for such a breakout is above the11,300 area—the all-time 0.886 retracement from the January 2000 high to the September 2001 low. It is a number that I have in the back of my mind and I have mentioned it in a few past reports. But, I continue to stick with my bearish overall position for several reasons.”

• First of all, the trend is still down. It is amazing that some analysts are calling for a new bull market when there are no technical signs that would support such an argument. As noted by the red channel, the Dow Industrials have failed to break out of the two-year downtrend.
• Lower highs and lower lows. Each successive critical high and low since the January 2000 peak has continued to trade at lower levels.

Lack of clear pattern. Throughout the Dow’s history, the index has signaled new market uptrends with distinct bullish patterns, including distinct secondary tests of prior critical lows. The rally since September has been more impulsive than constructive. This impulsive action can be observed in the Dow Jones Transports, as well. Essentially, the index must provide a significant retest of the September low to establish a constructive and stable base.

…I will outline my longer-term downside targets over the next few Dow Industrial reports. Although it is a long way down from current levels, my first target for the Dow Jones Industrial Average is 6800. There, I said it. In May’s report, I will explain my reasons. In the short term, the Industrials have declined after testing an important 0.618 retracement at 10,400, serving as the critical resistance. I favor a continuation of the recent selling, and I’m looking for the index to begin to break under 10,000 to as low as the 9500 level. Remember, the longer-term trend remains bearish and unless convincing upside action materializes, the Industrials will continue to slide.”

FINALLY, A LOW IN SIGHT…ONE PROBLEM, IT’S 3000 POINTS LOWER

Quite simply, the index was clearly stalling at a critical 0.618 retracement at the top range of the bear market trend channel. As the index continued to slide further, I knew that the next breakdown and continuation of the primary bearish trend could lead to a much further decline. As the index started to roll over, it became apparent that this next leg down would possibly trigger a massive Bullish AB=CD.

DOW JONES INDUSTRIAL AVERAGE (^DJI): WEEKLY

Figure 1.12 shows the actual chart from the April market report. Clearly, the breakdown was beginning to accelerate. The impending breakdown of the sharp up trend line and the reversal at the weekly 0.618 retracement were distinct signs of the continuation of the bear market.

FIGURE 1.12

DOW JONES INDUSTRIAL AVERAGE (^DJI): WEEKLY

MONSTER BULLISH AB=CD

The chart in Figure 1.13 is the original post from the initial prediction of an eventual low in the 6800 area. The breakdown following the test of the 0.618 weekly retracement turned out to be a critical continuation point within the predominant bearish trend. In fact, it was probably the best shorting opportunity of the entire bear market, as the index accelerated to the downside after reversing at the C point of the massive AB=CD.

FIGURE 1.13

The steady downside continuation in the months following confirmed the continuation of the bear market. I reiterated this position in my May 2002 Dow Jones Industrial Average market report and explained the longer-term reasons for the bear market low to occur at the completion of the Bearish AB=CD:

“As I mentioned in last month’s report, the longer-term picture remains bearish. This 15-year chart—starting from the crash low of 1987—reveals several interesting aspects of the future action. Clearly, the sharp uptrend from the 1994 low to the 2000 high has been violated. Furthermore, the chart shows that the 15-year bull trend from the 1987 low is quite a distance from the current level. It is important to be mindful of these two trend realities:

• Obviously, the 1994–2000 rally, as defined by the sharp uptrend, is over.
• The 15-year trend line represents substantial support and defines the lower limit of any significant potential correction.

The Dow Industrials are consolidating—more aptly termed distributing—below the bull market uptrend of the second half of the 1990s.… The Harmonics of the long-term price action confirm the potential support of the long-term uptrend. Assuming the current year’s high will remain untested, a potential Bullish AB=CD completes at 6,700. This area is complemented by two critical retracements from the 1987 low and the 1994 low, a 50% retracement at 6,760 and a 61.8% retracement at 6,700, respectively. These levels converge with the 15-year trend line and would represent a correction worthy of resuming the long-term bullish trend.… The overall market position for the Dow Jones Industrials remains bearish.… I felt compelled to outline the larger scenario that I have been monitoring for quite some time. I have been officially bearish on this index for two years, and I will not change this position until one of two things happens:

• A significant correction to the aforementioned long-term levels.
• A clear and substantial violation of the primary bearish trend.”

PRICE ACTION JUST ABOVE THE POTENTIAL REVERSAL ZONE

(PRZ): THE BULLISH BAT AT THE BEAR MARKET LOW

The Industrials continued to slide for another year after making the initial call for the bear market low in the 6700–6800 range in April 2002. In combination with the psychological 7000 level, I firmly believed the index would test this immensely critical long-term harmonic support. As the price action sank under the 7500 level, I knew the index was close. But, I firmly believed in the “magnet effect” of so many technical factors to “attract” the ultimate low to occur in this area. Furthermore, the S&P 500 possessed a similar long-term setup, and both indices were in the midst of completing their respective harmonic patterns. In October 2002, the index nearly tested the 7000 level, as the Dow declined sharply during this ominous seasonal time period. The Industrials sank under the 7200 level before bouncing sharply. Despite another near- completion of the long-awaited PRZ, I remained bearish. In my opinion, the harmonic support in the 6700–6800 area was so substantial that the index would eventually test it. Furthermore, the Industrials lacked any other substantial technical possibility.

After a sharp but brief rally, the index rolled over again, sinking to retest the October lows. This retest presented a dilemma, as the Dow Jones Industrial Average formed a distinct Bullish Bat. In addition, the S&P 500 formed the same pattern; however, it had already tested its long- term harmonic support zone. In my April 2003 Dow Jones Industrial Average market report, I discussed this dilemma:

“After completing this Dow Bullish Bat, the index has continued to move higher and hold weekly lows. This is crucial for the stability of the index. But what about 6800? The patterns indicated at a minimum that this was a primary target for this bear market.… Recent weeks have confirmed these lows as critical support, indicating inherent strength.… Since last summer, the index has tested the low 7000s three times and has been able to hold this area for eight months. With this type of action, the index is poised to make another attempt to retest the upper bear channel—at a minimum. For the Dow Jones Industrials, its defining resistance is the 9000 area. As I stated in last month’s report, ‘The next few weeks, if not days, will likely resolve the entire Dow Jones 6800 scenario.’ The following few days were the beginning of this resolution, as the index was able to hold the third test of the 7000 area.… The biggest question of all is: ‘Are we looking at a historic low for the index?’ Possibly. However, the index must provide confirmation and take out the aforementioned resistance levels before committing to such a stance.…”

DOW JONES INDUSTRIAL AVERAGE (^DJI): WEEKLY

BULLISH BAT

The weekly chart in Figure 1.14 shows the Bullish Bat in the Dow Jones Industrial Average that formed over the course of six months just above the 7000 level. The precise reversal and decisive bullish continuation in the weeks and months that followed confirmed this pattern as the definitive technical signal marking this area as the bear market low.

FIGURE 1.14

The Bullish Bat was considerably large, as the entire pattern comprised approximately 2000 points from high to low. Therefore, this was a substantial harmonic factor in my overall analysis. It is important to note that I did not immediately switch from bearish to a bullish position. Officially, I switched to a neutral stance in my April 2003 Dow Jones Industrial Average market report after the Bullish Bat completed, and I clearly stated that the primary bearish trend was coming to an end:

“The biggest question of all is: ‘Are we looking at a historic low for the index?’ Possibly. However, the index must provide confirmation and take out the aforementioned resistance levels before committing to such a stance. There are several basic long-term factors, such as historic trend, decennial cycles, and significant retracements that must be considered. And these factors indicate that the index is close to resolving this multiyear downtrend. For these reasons, the official position is now NEUTRAL. Essentially, this position is respecting the signs of the market and anticipating an eventual new uptrend. Before committing to a bullish stance, the index has some work to finish. But the upside is becoming the prevalent bias.”

At a minimum, the price action and the completion of the Bullish Bat were key signs that the primary downtrend of the past three years was coming to an end. Furthermore, the decisive upside in the months following its completion signaled inherent long-term strength at hand, as the Industrials eventually climbed to new all-time highs within three years after its completion.